1. Field
This application relates to a method and system for individuals to become educated in investing and to create and maintain a customizable investment fund of securities or other assets and liabilities. More specifically, this application relates to improved methods and systems to inexpensively create and manage customizable investment funds and to learn about investment concepts and strategies.
2. Prior Art
A small investor is defined as an entity investing a small amount, whether the investor is an institution or an individual. This applies whether the investor is acting on his/her own behalf or on behalf of another.
As used herein, assets, rights, or liabilities refers to any tradable commodity or item of value in which there exists a market for trading. The definition of tradable commodity or item of value includes, but is not limited to, the following: securities, equities, derivatives, currencies, fungible commodities, insurance contracts, mortgages, or bonds. Although the computer-based system of the present embodiment can be used with any tradable asset or liability, the discussion will focus on its use with securities.
Diversifying one's investments to significantly reduce risk without reducing return on investment is a centerpiece of modern investment theory. The primary purpose of diversification is to manage risk. For example, young investors looking for high returns at high risk would allocate a larger portion of their portfolio to higher risk investments such as growth and international stocks. Older and/or more cautious investors would favor lower risk investments such as bonds and blue-chip stocks. Even with the initial diversified investment portfolio, market fluctuations can change the securities' values over time, causing the investor to be invested in a risk category that he/she may not be comfortable with.
Ideally, a rational investor would choose to invest in securities that yield the highest expected return consistent with the investor's risk tolerance. For example, an investor who is risk averse would choose securities that are lower risk than an investor who is less risk averse. Consequently, the investor who is risk averse would attain a lower expected return than would be attained by the less risk-averse investor.
Until now, small investors generally have two choices in securities investing. First, they can directly acquire shares (i.e. 100 shares of Johnson & Johnson), derivatives on shares (i.e. an option on Johnson & Johnson stock), or a derivative comprised of multiple securities such as an option on the Dow Jones Industrials. In the example of directly purchasing shares, the investor is the owner of that particular security. When the investor owns a derivative security, the investor has no ownership of the underlying securities.
Second, the investor can purchase an interest in an intermediary such as a trust, corporation, or other investment vehicle that derives its value from multiple securities. An example of this is a trust that contains a portfolio such as the stocks comprising the Standard & Poor's (S & P) 500. The intermediary products category includes open-end mutual funds, closed-end mutual funds, unit trusts, and other vehicles. The focus of the intermediary products category will be on mutual funds.
Investors purchase mutual fund shares through a brokerage, dealer, bank representative, insurance agent, or directly from the fund. Brokerages sell securities shares, bonds, options, and other asset and liability products directly to individuals.
If an individual wants to create a customized, diversified portfolio of securities at a brokerage, the individual would have to purchase each security separately and pay a separate transaction cost for creating the diversified portfolio.
Each of these two traditional investment strategies, investing in mutual funds or trading individual securities or derivatives through a brokerage, has disadvantages that are described below.
A. Major Disadvantages Inherent in the Mutual Fund Product:
1. Inability to Select Securities or Monitor Selection of Securities.
An investor in a mutual fund is precluded from selecting the individual securities that make up the mutual fund. An investor can attempt to select the general type of securities to be included in the investor's overall asset allocation by investing in a targeted mutual fund. For example, the targeted mutual fund states it will invest exclusively in companies whose business is primarily biotechnology. That strategy, however, still provides the manager of the selected mutual fund with wide discretion to select from hundreds of securities.
In addition, except for some targeted mutual funds, it is not possible for the investor to express any preferences regarding matters such as social or moral issues (i.e. not wanting to invest in companies that operate in certain sectors, such as defense). When the investor invests in a mutual fund, he/she may be investing in securities that he/she would not prefer. Even in those instances where a targeted mutual fund exists for those types of preferences, the investor will not be able to select specific stocks for the targeted mutual fund.
It is also not possible for the investor to control the weighting or amounts of securities in the mutual fund. An investor could select a mutual fund that reflects an index, but the fund determines the weighting of the individual securities within the index fund.
Also an investor who invests in multiple mutual funds or who owns securities and a mutual fund could be over-weighted or under-weighted in particular industries or securities without his/her knowledge, and without any mechanism to correct the allocation.
Thus the centralized, one-size-fits-all investment decision making of mutual funds is not a good fit with the unique investment needs of individual investors. The investment needs of investors are a function of many variables including current age, planned retirement age, tax factors, number and ages of children, desired retirement income, expected education cost per child, current and expected future income, current wealth, risk tolerance, and investment expertise.
2. Inability to Control Tax Effects.
A problem with centralized management of mutual funds is that the timing and amount for the realization of gains is out of the control of the investors of the fund. As a result, investments in funds that are held in taxable accounts can be tax-inefficient for investors. An investor in a mutual fund receives ordinary income distributions at the discretion (subject to certain legal constraints) of the mutual fund manager.
Funds that actively purchase and sell securities generate more transactions than funds that do not, and the taxable distributions depend on the mutual fund's activities, not the investor's. When a mutual fund realizes gains, all investors in the fund are taxed on their portion of the gain.
In most mutual funds, such as open-end mutual funds, net tax gains flow through to the investor. The investor is saddled with whatever flow-through tax gain the manager's activities have generated and such gains are taxed at ordinary income rates. The investor has no control over these and could pay tax on gains earned by the mutual fund even when the investor has not engaged in any transaction in the mutual fund during the year. Only taxable gains can be distributed by a mutual fund, not the taxable loses. Consequently, an investor only receives a tax liability from the mutual fund and not a tax benefit.
An investor can invest in a mutual fund that attempts to limit the fund's uncontrollable tax effects. For example, an index fund or a fund that invests in the largest 500 corporations would have little turnover of securities because the fund manager would not need to actively buy or sell securities in order to adjust the portfolio's holdings.
Even in these mutual funds, however, there are securities sales by the mutual fund to reflect redemptions by investors. As redemptions occur, the manager sells some of the securities to obtain cash to pay the fund holders who are redeeming their interests in the fund. Consequently, if there was a net gain on those transactions, investors in that mutual fund will receive a taxable gain, even if they did not make any trades.
3. Inability to Manage Tax Effects.
Invariably, some securities in a mutual fund will have depreciated while the fund overall has appreciated (or vice-versa). It is not possible for the investor in an appreciated fund to obtain a capital loss by selling depreciated securities. The mutual fund itself cannot pass through losses to the investors. Conversely, it is not possible for an investor to obtain a capital gain by selling the appreciated assets in a fund that has depreciated overall. The transactions in particular securities are made at the discretion of the fund manager and affect all investors in the mutual fund.
The investor can only sell part or all of his/her interest in the mutual fund which will either result in a gain or a loss depending on whether the fund has appreciated or depreciated as a whole relative to the investor's tax basis in the fund. The investor cannot sell specific securities in the fund, and therefore does not have the ability to manage the various tax effects that originate from the underlying securities in the fund.
Any capital losses realized by the mutual fund cannot be passed through to investors. The capital losses must be carried forward within the fund and applied against future capital gains realized by the fund. As a result of this and the centralized control of investment decision making, investors in funds are largely denied the opportunity to realize losses in order to offset them against gains elsewhere.
4. Inability to Exercise Shareholder Rights or Rights Regarding Reinvestment, Distributions, Etc.
Securities held in a mutual fund are owned by the mutual fund, not the investor who only holds an interest in the mutual fund. Consequently, the investor in a mutual fund has no right to vote the underlying securities, tender or not tender the securities in a takeover contest, receive a reinvestment of dividends, receive a dividend as stock instead of cash, exercise any preemptive rights, or otherwise exercise any other shareholder right that may exist with regard to the securities held in the mutual fund.
5. Inability to Modify or Control Costs.
Mutual fund fees and expenses are divided into two groups: transaction expenses and annual operating expenses. Shareholder transaction expenses are fees charged directly to the investor's account for a specific transaction. A front-end sales charge or “load” may be attached to the purchase of mutual fund shares. This fee compensates a financial professional for his/her services. Under present law, this charge may not exceed 8.5% of the investment, although most mutual funds charge less than the maximum.
A contingent deferred sales charge, imposed at the time of redemption, is an alternative way to compensate financial professionals for their services. This fee typically applies to the first few years of ownership and then stops. A redemption fee is a type of back-end charge for redeeming shares. It is expressed as a dollar amount or as a percentage of the redemption price. An exchange fee is a fee that may be charged when transferring money from one fund to another within the same fund family. An account maintenance fee is charged to low-balance accounts.
Annual operating expenses reflect the normal costs of operating the fund. Unlike transaction fees, these expenses are not charged directly to an investor account, but are deducted from the fund's assets before earnings are distributed to shareholders. There are normally two kinds of operating expenses:
(1) Management fees that are ongoing fees charged by the fund's investment advisor for managing the fund and selecting its portfolio of securities.
(2) 12b-1 fees which are deducted from the funds assets to pay marketing and advertising expenses or to compensate sales professionals. Under present law, 12b-1 fees cannot exceed 1% of the fund's average net assets per year.
An investor may be able to regulate the directly incurred charges either by buying or selling less frequently, or by buying directly from a fund as opposed to a broker or other intermediary that charges a fee or load. The investor, however, cannot control the charges levied against the fund. Those charges, which frequently are based on a percentage of assets under management, are paid by the fund and serve to reduce the returns or increase the losses of the fund.
6. Inability to Make Intra-Day Modifications.
An investor in a mutual fund can make only one investment decision; to buy or sell shares in the mutual fund. Because of the structure of open-end mutual funds, that decision is effective only once per day. For example, an investor who believes the market may go down during the morning but then thinks it will go up in the afternoon has no mechanism, through an open-end mutual fund, to buy based on intra-day prices. All open-end mutual funds are priced as of the close of business.
All investors, regardless of when their order was placed during the day, receive a price as of the close of business. This lack of execution flexibility is an important consideration for some investors and one that causes them to purchase securities directly as opposed to utilizing mutual funds for their investing.
Certain funds, such as closed-end mutual funds or some trusts, do trade during the day and therefore can reflect intra-day price movements. Each of these vehicles, however, has negative characteristics that have made them unpopular with investors, including discounts to fair market value of the underlying securities, less transparency than open-end mutual funds, or relatively unchangeable, static portfolios. They are not generally viewed as substitutes for open-end mutual funds.
7. Inability to Monitor and Control Risk Levels and “Styles” of Investing.
An investor in a mutual fund can receive historical information as to risk and returns for the mutual fund. Mutual funds that are actively managed, as opposed to passively managed indexed funds, are managed by individuals or by teams of individuals making buy and sell decisions. When some of those individuals depart the fund, the “style” of investing of the fund may change.
Even if those individual managers never depart the fund, the market may present them with fewer or greater opportunities to buy or sell securities under a particular “style” than they had before. Some investors attempt to select funds based on the fund's supposed risk, sector of interest, or other factors (including previous returns or returns relative to an index). It is not possible to control those factors in these funds in advance unless the mutual fund commits to a mechanical style of investing with extremely limited discretion. This mechanical style is very rare for an actively managed fund.
8. Inability to Switch Funds or Fund Families without Negative Financial Consequences.
Because funds are organized and managed by particular investment company advisers, they are proprietary to a particular fund complex. For example, an investor is invested in a Fidelity S & P 500 fund, but wishes to switch to a Vanguard S & P 500 fund because the investor switched jobs; his/her new employer only offers Vanguard instead of Fidelity. Because of this, the investor would have to sell all his/her interest in the Fidelity fund and buy an interest in the Vanguard fund. Unless the interests were held in tax advantaged accounts like a 401(k) account, those transactions would be taxable. Even switching from one Fidelity fund to another Fidelity fund is taxable unless the interests were held in tax advantaged accounts.
9. Active Fund Management does not Necessarily Translate into Solid Gains.
History shows that active management does not work because the majority of actively-managed mutual funds do not beat the S & P 500. As a result, passive-index fund managers have seen their assets rise from $10 billion in 1980 to over $250 billion in 1990. Many investors are dissatisfied with mutual funds due to high management fees, tax planning issues, and mediocre returns. Advisory and transaction services are bundled in the mutual fund. This attribute of mutual funds diminishes the control that investors have over the management of a personal portfolio and requires them to follow the advisor's recommendations.
Investment decisions for each fund are still centralized in either a management company that runs the fund or in the fund itself. As a result, all investors in a fund share in the same investments and the same investment decision making. Accordingly, investors in a fund cannot expect investment decision making to be tailored to their individual needs and investment decision making is not under their control.
10. Herd Mentality by Fund Managers.
A frequently noted problem with actively-managed funds is the so-called “herd” phenomenon. Professional managers of a mutual fund usually have styles, or the fund has a “style”. For example, a fund could be a “growth” fund seeking to invest in high growth stocks. When a stock is viewed as “growth,” the growth funds buy it. This selection criterion is similar for other stocks and funds. Moreover, general trends in the economy are tracked by the same information sources which report the same events. Consequently, many professional managers hear and listen to the same things.
Because many money managers are graded and reviewed based on how well they do relative to their peers, there is a tendency to make investment choices that will not be contrary to the decisions of one's peers. It is safer for them not to risk losing money while seeking higher than average returns. For these reasons, there is an observed phenomenon where “smart” money follows the same investments, makes the same decisions—including the same mistakes—and usually performs less well, net of costs, on average than the market as a whole. The result is poorer performance from professionally-managed, actively-managed mutual funds than might otherwise be expected.
Therefore an investor who does not wish to make his/her own investment decisions or provide discretion to a broker or money manager for an individualized account, can either invest in a variety of passively-managed index funds or invest in actively-managed mutual funds where the active management is supplied by a professional fund adviser.
B. Major Disadvantages Inherent in the Brokerage Service:
1. Inability to Create a Diversified Portfolio on a Cost Effective Basis.
In portfolio theory, an investor should seek to create a diversified portfolio when investing. However, few small investors are able to create a diversified portfolio. One obstacle to creating such a diversified portfolio for the small investor is the inability to build such a portfolio on his/her own because of the costs of trading securities to create and maintain such a portfolio. Another obstacle is the inability to consummate trades in small quantities needed to create such a portfolio. Therefore, most investors who understand the benefit of diversification have to turn to mutual funds. The concept underlying the brokerage has been the selection of individual stocks, not the creation of a portfolio of securities.
Some of the expenses for an investor seeking to invest a small amount to create and maintain a diversified portfolio stem from the brokerage costs. An investor buys or sells individual securities by using a broker. The broker purchases the selected securities for the investor directly, from a dealer, or on an exchange. The costs to a small investor of purchasing or selling a security are reflected in charges that generally fall into two categories.
The first category of expenses is those charged directly to the investor. These include the broker's trading commission and fees. The second type of expenses are charges levied upon the transaction itself (“mark up” or “spread”). These charges are the difference between the cost at which the security was acquired by the dealer or exchange specialist from another investor and the cost of the security as it is sold to the purchasing investor. This is a cost that frequently is “hidden” from investors. Investors do not always realize that there is a spread even when they are being charged a commission. This cost can be significant, even exceeding the explicit commission charges.
For example, to create and maintain a diversified portfolio of individual stocks, an investor could purchase 20 to 30 stocks to create the portfolio. The investor would also periodically re-balance the portfolio by purchasing or selling securities as the markets and securities change. Obviously, the basic brokerage costs, even employing the deepest discounted brokerage services, would be prohibitive for the ordinary investor.
As an example, to create and maintain a diversified portfolio, an investor seeking to invest $1,000 would likely incur minimum brokerage costs of $100 for initially purchasing ten stocks (assuming a fee of $10 per transaction). This cost is equivalent to 10% of the initial invested amount.
As another example, if an investor can only afford to invest $100 and wants to diversify, if the investor invests in five stocks, he/she would pay $5 for each order (with discount brokerages). That would only be the commission charge and does not include the all-in-costs from the spreads. Obviously, no one would pay $25 to invest $100.
Brokerage costs and constraints eliminate the possibility that a small investor can create and maintain a diversified portfolio on his/her own, even if the investor has the tools and skill to be able to do so.
2. Lack of Investment Information to Create a Diversified Portfolio.
Ordinary investors usually do not possess the capabilities, skills, or tools necessary to create and maintain a diversified portfolio with the desired risk-return characteristics. To create such a portfolio, an investor needs to understand risk from the perspective of portfolio theory. He or she must have the data and mechanism for analyzing the information in order to employ the theory. That data then needs to be connected with a trading system to enable the cost-effective creation and maintenance of the portfolio. There is no brokerage that deploys and uses the necessary diversification information combined with a trading system that is accessible by an ordinary investor.
There are a variety of systems (i.e. Schwab One Source (www.schwab.com)) that provide advice to investors for creating a portfolio of mutual funds based on risk, style, performance, and ratings. These systems are not designed to enable investors to purchase a portfolio of specific securities.
3. Inability to Purchase Small and Fractional Share Interests.
It is possible to acquire small and fractional share interests through specific dividend reinvestment plans. These plans, however, are run by selected issuers and have a number of limitations including average pricing usually over weeks or a month.
Purchasing or selling a security through a brokerage requires transactions to be effected in minimum units of whole numbers. An investor can purchase no less than one share of Cisco or sell no less than one share of Amgen. In addition, costs are frequently prohibitive for small transactions in a security (such as one or two shares) or even for transactions in less than a round lot of 100 shares. An investor buying a round lot in an ordinary security trading between $20 and $40 would buy at least $2,000 to $4,000 worth of the security.
Buying 20 round lots to create a diversified portfolio requires an investment ($40,000 to $80,000) greater than most investors can make. As an example, an investor wishing to invest $150 could, through an ordinary brokerage, at best buy three shares of a $40 stock or seven shares of a $20 stock and invest the balance in cash. But at a brokerage cost of $5 per security traded, the brokerage costs would range from $15 ($5×3) to $35 ($5×7), a prohibitive 10% to 23% cost of the amount to be invested. Until now, the only reasonable alternative for an investor has been a mutual fund.
4. Inability to Obtain Superior Trade Executions.
Brokers generally execute trades when received, thereby providing “immediate” executions, but there are exceptions. For example, a trade can be a “limit” order meaning that it can be executed only at a specific price or better. Limit orders are generally executed immediately whenever the price reaches the limit. Trades can also be set for execution at “open” or “close”, meaning the trade will be executed as part of the opening or closing call auction procedures, or upon the satisfaction of certain other conditions, or at certain other times as the investor may specify.
Generally, under applicable regulatory requirements, investors are required to receive what is called “best execution”, but that execution may not be the best price they could have received if the execution system were different. If an investor seeks immediate execution, the price may be less advantageous to the investor than if the investor is willing to wait. If the investor is willing to delay the order execution until there are multiple other orders, then the investor could obtain a better execution because there will be a greater concentration of order flow against which to try to match the order.
There are trading systems that attempt to obtain improved trading performance for their investors, but these systems serve exclusively as various forms of “matching” mechanisms that seek to match buy and sell orders. They hold order flow over time or in accordance with specified preferences. These include the ITG-Posit that operates a crossing system that matches buy and sell orders five times a day, and the Optimark trading system which matches buy and sell orders according to various algorithms. These systems primarily cater to institutions and are not available to the individual investor.
5. Failure to Monitor Portfolio Based Tax Effects.
Brokers generally do not monitor the overall tax effects of a portfolio for their customers. The concept behind a brokerage is usually the selection of individual stocks for purchase or sale, not the creation and maintenance of a diversified portfolio. Consequently, brokerages only record the basis, gains, and losses of individual securities as opposed to recording gains and losses for the portfolio as a whole. If a customer obtains tax advice from the broker, it is usually expensive.
6. Failure to Assist in Exercising Shareholder Rights.
Similar to the problem with tax effects, a brokerage is designed to provide assistance regarding individual security transactions without looking at the portfolio as a whole. Consequently, investors are forwarded materials such as proxy statements without any advice or direction from the broker.
7. Failure to Limit Portfolio Characteristics.
Currently, security trading is permitted in some self-directed retirement accounts established by employers such as 401(k)s, but not permitted in many. Some employers are concerned that employees, especially less financially sophisticated employees, will not understand the risks of investing. The employees may invest in risky securities or not have a sufficiently diversified portfolio. These issues potentially could cause the employees to lose much or all of their expected retirement.
Consequently, employers limit the choices that employees may select by offering a finite number of investment choices. This means only offering limited choices of mutual funds. Trading securities has not been offered because there was no way to ensure that an employee would invest in a diversified portfolio with specified maximum risk levels.
Recap of Disadvantages of Mutual Funds and Brokerages:
Therefore, investing directly in stocks, bonds, and other investments restores control over investment decisions to individual investors. This direct control enables investors to invest in a manner consistent with their unique individual investment goals and their personal tax situation. Currently, direct investment creates an investment performance and/or investment safety problem that is unavoidable for all but the wealthiest investors; the inability to economically achieve adequate diversification to maintain investment risk at acceptable levels.
Investment Education:
There are many individuals who purchase mutual funds because they do not think they are sufficiently informed nor educated to make investment decisions on their own. In addition, there are individuals who purchase securities without researching the securities properly. For example, a neighbor or friend told them about “the next great stock” or a financial website or cable channel touted the security.
As an example, in the summer of 2008, on CNBC, a so-called “investment expert” promoted Bear Stearns as a security investment even though Bear Stearns was having large-scale financial difficulties and the stock price was falling. Bear Stearns went bankrupt within a few weeks after being recommended by this so-called expert.
Many individuals lack financial knowledge to investigate and research securities and their associated companies. Many of the current financial websites (i.e. Yahoo Finance, Motley Fool, CNBC, MarketWatch) aim their articles at those individuals knowledgeable in investing and do not focus on basic investment education. In addition, these websites provide a knowledgeable investor with information, but do not provide mechanisms for creating a tailored basket of securities.
Prior Art Comparisons:
Regarding the financial education of individuals, U.S. Pat. No. 6,515,681 to Knight (2003) focuses only on a message board interface and U.S. Pat. No. 6,571,234 to Knight (2003) focuses only on message boards and querying message board postings. Neither of these patents contains a financial education component, asset allocation system, nor mechanism to create a customized fund.
U.S. Pat. No. 7,146,335 to Rose (2006) discusses only trading one security at a time, but not creating a customized, diversified fund. U.S. Pat. No. 7,373,324 to Osborne (2008) focuses on a recommended minimum investment amount, but the patent uses advisors in selecting investments and strategies. This patent does not allow an individual to create a weighted portfolio of securities and does not offer a financial education component. U.S. Pat. No. 7,174,313 to Martinez (2007) focuses only on rebalancing funds and is geared for companies managing funds. It is not designed for individuals. U.S. Pat. No. 6,236,972 to Shkedy (2001) only focuses on mutual fund trading, not individual creation of a customized fund of securities. U.S. Pat. No. 7,313,540 to Hueler et al. (2007) includes fund customization, but is designed for investment plans (investment contracts) rather than individuals.
U.S. Pat. No. 6,832,209 to Karp et al. (2004) does not enable individual choices of stock selection nor portfolio diversification. U.S. Pat. No. 4,674,044 to Kalmus et al. (1987) focuses on trading only, not customization of a portfolio. U.S. Pat. No. 7,340,425 to Boyle & Craig (2008) focuses on creating unit investment trusts of professionally selected stocks and not customization of a portfolio by an individual investor. U.S. Pat. No. 6,282,520 to Schirripa (2001) does not focus on customized selection of specific investments. The patent's focus is on risk versus return only, but excludes the individual's investment timeframe.
U.S. Pat. No. 6,484,151 to O'Shaughnessy (2002) charges the individual money to see a list of stocks in a strategy. The investor first chooses stocks then determines an amount to invest. This method is not efficient since the investor will not know how much money is invested in each security chosen. In addition, this patent has equal weighting of stocks (i.e. 10 stocks and each gets 10% of the total amount invested) whereas a truly customized fund would enable the investor to designate the weighting. Finally, this patent does not include investment education for the individual.
U.S. Pat. No. 5,132,899 to Fox (1992) is designed for portfolio managers and does not allow individuals to create a customized fund based on his/her timeframe and risk tolerance. In U.S. Pat. No. 7,447,651 to Herbst (2008), the individual is given a set of rules that are created by a computer system, and the patent uses rule-based selections for the investor. This limits the investment choices. In addition, this patent does not include investment education for the individual.
U.S. Pat. No. 6,338,047 to Wallman (2002) is for a collective group to make investment choices to create a portfolio, so an individual cannot design his/her own customized fund of securities based on his/her risk tolerance, timeframe, and goals. The composition of securities included in the portfolio can be modified to reflect changes in the aggregate investment choices of the collaborative group of investors.
U.S. Pat. No. 6,601,044 to Wallman (2003) is designed to have a computer design a portfolio based on the investor's preference data. The computer creates a percentage allocation of investment classes for each investor based on input from that investor. The investor does not choose the investments nor receives an investment education. The allocation model is based on the answers to a user survey. These inputs might not be accurate and the results are dependent on the type of questions asked and the investor's answers. This patent aggregates all the assets in a portfolio, but does not consider the timeframe of the individual's investments (i.e. long term such as saving for retirement, short term such as saving for college) in the overall portfolio.
U.S. Pat. No. 6,996,539 to Wallman (2006) is similar to U.S. Pat. No. 6,601,044 to Wallman (2003) in that a computer selects stocks based on the investor's criteria. The processor also creates a percentage allocation of investment classes for each user based on input from each user, and transmits a resulting percentage allocation of investment classes to each user. Again, the allocation model is based on inputs programmed in. The inputs might not be accurate and the results are dependent on the type of questions asked and the investor's answers. In addition, the system specifies percentages of each stock to allocate to the portfolio, which is not as customized as if the individual set the percentage allocation weightings. There is no investment education component in this patent.
U.S. Pat. No. 7,110,971 to Wallman (2006) is a continuation of the prior patents where an investor provides his/her preferences, the system generates a portfolio that reflects the investor's preferences, or assists the investor in selecting a portfolio. Again, the allocation model is based on the answers from a user survey. These inputs might not be accurate and the results are dependent on the type of questions asked and the investor's answers. With this patent, all stocks/bonds/investments are grouped together into one portfolio, regardless of whether they are in a 401k account, broker account, etc. This does not take into account the timeframe for the individual's investments (i.e. long term such as saving for retirement versus short term such as saving for college). The risk and return of the entire portfolio is meaningless if the investments of various timeframes and their associated risk/return ratios are lumped together.
U.S. Pat. No. 7,117,176 to Wallman (2006) is a continuation of the prior patents where the system will recommend or suggest to the investor the securities that should be included in the investor's portfolio that satisfy the investor's risk and return selections, combined with any other selections or preferences that the investor may have. Again, the allocation model is based on the answers from a user survey. This might not be accurate because the results are dependent on the types of questions asked and the investor's answers. There is no investment education component in this patent.
Advantages of a Proposed System and Method:
Currently there is no mechanism for enabling individuals to gain knowledge in investing. Nor is there a means to cost effectively design, maintain, and modify a customizable investment fund comprising individual securities based on an investor's risk tolerance, timeframe, and specific investment preferences. An investment mechanism differs from the prior art where 1) it is currently not possible for a small investor to acquire or trade individual equities in small or fractional amounts on a cost-effective basis, 2) the individual cannot manage individual equities as an integrated portfolio, and 3) the individual cannot learn investing concepts and strategies, research investments, and network with other investors in one comprehensive place.
The proposed system and method not only enables an individual to inexpensively create a diversified, customizable investment fund of securities, but also enables novice investors to: 1) gain knowledge in investing; 2) research investments to determine if they meet the individual's criteria; 3) discuss investment strategies with more experienced and more knowledgeable investors.
The proposed system solves the problem of individual or small investors creating and managing a portfolio of securities on a cost-effective basis as well as learning about investment concepts, strategies, and techniques.
The proposed system and method is a combination of investing, investment tools and investment education. It is designed for both those knowledgeable in investing and those who are novices in investing. The proposed system helps an individual set up a cohesive, comprehensive investing strategy that is tailored to the investor's goals, risk tolerance, timeframe, and other investment criteria.
In the proposed system, investors can learn about investing and investment strategies by posting messages on an information exchange forum and having other more knowledgeable investors answer questions. The investors can read or search through other questions and the answers posted on the information exchange forum. They can also post their successful investment strategies and discuss potential investments.
The proposed system also aggregates trade orders generated by investors at various times during the day for execution and includes a system for executing the aggregated trade orders, including small numbers and fractional shares of securities. The proposed system further nets the various aggregated transactions to provide better execution and lower costs.
What is needed, but not currently available, is a method that enables individuals to:
1) have the advantages (i.e. economies of scale) of a mutual fund without being subjected to the attendant disadvantages.
2) have an inexpensive process for selecting and weighting securities, based on unique individual investment needs. Fees associated with mutual funds currently make this process prohibitively expensive. Currently, the average fee, called an expense ratio, of all diversified equity funds in the Morningstar database is 1.55%. An investor with a $10,000 investment in the average mutual fund would face annual expenses of $155 before any commissions, sales load, or 12(b)-1 charges.
3) have a system where the individual investor is not affected by the actions of other shareholders. For example, one day an investor buys $1,000 of shares in a mutual fund. The next day, a number of current shareholders of that fund decide to liquidate their holdings. The Net Asset Value (NAV) of the fund would be materially affected as the portfolio manager would be forced to liquidate current holdings to meet the redemptions.
4) gain greater control over their taxes through managing capital gains and losses by having all the information necessary to monitor and manage tax effects.
5) hold on to assets during market downturns. Mutual funds may face forced liquidations at depressed prices or forced recognition of capital gains during a market downturn.
6) incur lower transaction costs through aggregation of multiple investor orders, reducing the market costs, commissions, and bid-ask spreads.
7) maintain all shareholder rights with respect to each security in the portfolio, full ownership and control over all investments, and voting and other decisions regarding the securities.
8) maintain direct control over the charges and expenses incurred by trading and have the ability to make multiple and intra-day investment transactions.
The proposed method and system would allow the investor to ensure that his/her customized fund is diversified and that it reflects the level of risk he/she wishes to assume. It would increase the investor's control over specific matters like stocks owned, taxes owed, and shares voted. It would enable the investor to purchase or sell specific securities as well as fractional shares of securities, all for a low cost that is less than or competitive to trades of single securities through discount brokers.
In contrast to what is offered by existing brokerage services, what is needed is a system and method that: 1) reduces costs because the system aggregates order flow, thereby limiting the number of actual external trades; 2) enables an investor to select individual securities reflecting his/her preferences to be included in a diversified portfolio by taking the investor through the process to create and manage a diversified portfolio; 3) enables an investor to acquire fractional and small numbers of shares, thereby permitting the cost-effective creation and maintenance of smaller, but diversified, portfolios.
In contrast to the functions of mutual funds, what is needed is a system and method that would include: 1) selection of individual securities to be included in a portfolio; 2) management of tax effects; 3) making specific modifications to the portfolio multiple times a day, including buying or selling securities at the open, mid-day or close; 4) exercising voting and other shareholder rights and decisions; 5) controlling reinvestment of dividends; 6) fine-tuning risk-return preferences with complete control over what will be included in the portfolio; 7) modifying risk levels and portfolios with fewer potential costs or tax consequences; 8) better managing costs.
The underlying purpose of the proposed process is that investors should be able to learn about investing as well as inexpensively invest in tradable assets as a fund instead of as a collection of individual assets. The proposed system enables investors to create and maintain a diversified portfolio as well as make investment decisions based on the effect on the investor's portfolio.
The proposed process addresses the need for a comprehensive, intuitive system and method that enables individuals to cost-effectively create a customizable investment fund comprised of directly-owned individual securities. This system has attributes similar to a mutual fund, such as diversification, but with advantages over a mutual fund. In addition, this system has an investment tools component enabling individuals to learn about investing and make better informed investment decisions. This comprehensive system and method is unlike any prior art in that it combines investing and education together.
These and other advantages of one or more aspects will become apparent from a consideration of the ensuing description and accompanying drawings.